**Abstract**

A country's economic prosperity is intimately linked to the external and internal forces that exert influences on its economy. While some of these forces may not be under the overt control of the country's economic planners, any disruption to the economy by these forces may just tip the balance that causes financial hardship to millions of people. Certainly, national governments through fiscal and monetary policy measures may attempt to prevent such a catastrophe, but what happens if at such a critical time, the needed government leadership is suddenly not available? In such a situation, what will be the most appropriate reaction from the central bank and what is the likely effect to the country's banking industry? While this scenario might sound like an interesting thought experiment in a banking classroom, a similar situation is in fact unfolding in real life at this very moment in Malaysia.

**Keywords:** Malaysian banking, Malaysian economy, Bank Negara Malaysia, Brexit, trade wars, China, USA, New Malaysia, economic uncertainties, recession, credit risk, repayment risk, Corona virus, Malaysian politics

## **1. Introduction**

2018 was a period of interesting change in Malaysia. The General Election held on May 9 resulted in the ruling Barisan Nasional (BN) coalition, which has held power in the country ever since Malaysia's independence in 1957, being voted out of power. In its place, the Pakatan Harapan (PH) coalition formed the new Malaysian government. It seemed that the unprecedented change of government also brought a new wave of hope for the Malaysian people. The Malaysian economy grew above market expectations in the fourth quarter of 2018, buoyed by strong domestic activities which grew 5.6% along with total external trade that grew at 6.9% [1].

This was excellent news for the people, as earlier in the year in March 2018, there appeared to be a looming threat of a full-on trade war between the United States and China. China is Malaysia's second largest trade partner at 13%, and 9% of Malaysian trade is with the United States, its third largest trade partner, respectively [2]. Worries about the trade war between these two countries had already caused Asian markets in general to trade lower—the KLCI (Kuala Lumpur Composite Index) dropped 0.6% to 1865.22 points, and Hong Kong's Hang Seng Index dropped 2.5% to 30, 309.29 points after US and China announced tariffs on each

other on 26 March 2018 [3]. Despite the threat of a trade war, there were potential benefits for Malaysia. It was thought that China may scale back purchases of US Treasury bonds, and divert capital flows to Ringgit assets, which will be beneficial to Malaysian Government Securities' yields [2]. There is even the possibility that the price of oil, a key Malaysian export, will increase as a result of the trade war [2]. Indeed, by the fourth quarter of 2018, most Malaysians had a positive outlook on their personal finances and job prospects, with 70% of Malaysians believing that the state of personal finances in the next year would be excellent or good, and 71% had a positive view of their job prospects [4].

This was the case in Malaysia during the Asian Financial Crisis of 1997–1998, when cases of Non-Performing Loans (NPLs)/Impared Loans (as expressed as the ratio of net impaired loans to net total loans in percentage) reached 8–9% [12]. Because of the Asian Financial Crisis of 1997, growth and innovation in Malaysia are

constrained by banks whose capital has been eroded by accumulating nonperforming loans [13]. This leads to the mergers of several banks that shaped the

*New Malaysia, Brexit and US-China Trade War: Credit Risk to Malaysian Banks*

*DOI: http://dx.doi.org/10.5772/intechopen.92080*

Therefore, it is clear that anything that affects the banking sector's lending activity will adversely affect the income of the banks. The factors that may affect such activities may be divided into two types of factors, internal factors (bank specific factors), and external factors like the economic climate or political climate. By its nature, external factors may not be readily controlled by the bank [14]. This makes it harder for banks to maintain profitable lending. Malaysian banks loan growth remained low at 5% as of June 2018, due to the poor performance of working capital loans [15] and loan growth was projected to remain flat at 5–6%

Brexit is a portmanteau for 'Britain' and 'Exit', following a referendum in the United Kingdom (UK) that resulted in London, Scotland and Northern Ireland electing to remain in the European Union (EU) while the rest of England and Wales deciding to leave the EU [17]. Following [18], there is little short-term impact of Brexit to Malaysia. The UK is not a large trading partner of Malaysia, and despite UK's status as the financial center of Europe, any impact of Brexit will not have a big effect to Malaysian financial markets [18]. In fact, the weakened British Pound (GBP) will even make the UK a favourable destination for Malaysian students, and well-to-do Malaysians may even find it a good time to holiday there or to buy properties in the UK. This view is echoed by [19], despite the UK contributing RM 1.9 billion worth of Foreign Direct Investment (FDI) while the EU invested RM 30.3 billion in the same period in 2016, and estimated that Brexit will not affect FDI to

However, Brexit's effect on the UK economy is expected to be not so benign. Following [20], a recession in the UK is a strong possibility. The Organization for Economic Cooperation and Development (OECD) has already predicted the UK economy to grow at only 1% in 2020. An impending economic recession in the UK will have a negative impact on the EU, since half of the UK's imports come from the EU. In addition, with a general slowdown in the global economy caused by instability in global trade due to trade spats, the OEDC concludes that it is likely to

Given that Malaysian trade with the EU is about 10%, a weaker EU economy will impact the Malaysian economy in general. Further, with the expected weakening of the GBP against the Ringgit, Malaysian exports to the UK, already at a tiny 0.2% of total exports, will increasingly become less competitive in the UK market [20].

Malaysia has always been a trading nation, and international trade has consistently contributed to the Malaysian gross domestic product (GDP), and since 2017 its share of contribution to the GDP was higher than 130% [21]. Following [21], there is concern that the Malaysian economy will shift into lower gear on fears of a gloomier global economic outlook. The International Monetary Fund (IMF) had

dampen the EU's growth rate to about 1% as well in 2020 [20].

These events do not bode well for the Malaysian economy.

banking industry to the one that we see in Malaysia today [14].

level in 2019 [16]. The external factors are discussed next.

**2.1 Brexit and Malaysia**

Malaysia.

**2.2 US-China trade war**

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However, this positive mood had declined by the second quarter of 2019, with only 63% of Malaysians believing that the state of personal finances in the next year would be excellent or good, and 63% had a positive view of their job prospects [5]. In Ref., [5] also found that 70% of the Malaysian consumers already believed that the country was already in economic recession. In response, the central bank of Malaysia, Bank Negara Malaysia (BNM) signaled the banking industry that they should continue to give out more loans by reducing the Statutory Reserve Requirement (SRR) Ratio to 3% from 16 November 2019 [6]. This is the latest series of SRR ratio reduction by BNM, which started in 2016, when the central bank reduced the SRR from 4 to 3.5% [7]. This message was reinforced by BNM on 22 January 2020, when the Monetary Policy Committee of Bank Negara announced the reduction of the Overnight Policy Rate (OPR) to 2.75%, and considered the adjustment to the OPR as a pre-emptive measure to secure economic growth with price stability [8].

What had happened to Malaysia between 2018 and 2019 timeframe that had caused such a drastic change in its perceived economic fortunes is a point of conjecture at this time, but several external forces will be discussed here, which cumulatively, may explain the present situation that Malaysia has found herself in. Further, the recent shocking developments in the political scene in Malaysia on 24 February 2020 also add turmoil to the present situation of economic uncertainty. Through it all stands the Malaysian banker, duty bound to protect the interests of their respective employers, and at the same time fully aware that should they be too careful, they may just doom the country to another economic recession that they have tried so hard to avoid. Conversely, BNM is counting on the banking industry to continue to provide the necessary funds for economic activities despite the heightened risk of nonperforming loans and the negative impacts this will have on the banking industry. It would almost seem that the BNM appears to be willing to expose the banking industry to more risks in order to protect the Malaysian economy.
